China inaugurates Shanghai free-trade zone in drive for financial reform

Staff Writer
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(c) 2013, Bloomberg News.

BEIJING — Citigroup and Bank of China said they will participate in Shanghai's free-trade zone as the Chinese government inaugurated the 11-square-mile experiment in more relaxed financial and investment controls.

The two banks were among the first to announce their participation in the zone, which opens with the aim of creating a more efficient and open economic system, Commerce Minister Gao Hucheng said at a ceremony Sunday.

The area is a testing ground for free-market policies that Premier Li Keqiang has signaled he may later implement more broadly in the world's second-largest economy. Li and President Xi Jinping are expected to seek support for national plans to reduce the government's hand in the economy and financial system at a Communist Party plenum this November.

"The impact will reveal itself slowly," said Wellian Wiranto, an investment strategist at the wealth-management unit of Barclays Plc, which oversees about $217 billion worldwide. "They are learning as they go, they are trying to see the impact of the opening up and if it's applicable to the rest of country."

The trial comes as growth in China slows, with Li seeking to pare dependence on exports and investment, and boost the role of services and consumption. A Chinese manufacturing gauge released today for September rose less than analysts forecast.

China's State Council announced some details for the zone in a Sept. 27 statement, including plans to allow trials of yuan convertibility in capital flows. At a briefing Sunday, the zone's executive deputy director, Dai Haibo, gave more details, including the establishment of an international energy center to trade crude futures.

While the backing of the State Council will ensure the success of the zone, reforms may be limited as the government wants to be able to replicate the results in other parts of China, Ting Lu, a Hong Kong-based economist at Bank of America Merrill Lynch, said in a note today.

Li and other senior Chinese officials didn't show up at the ceremony, which "suggests that the Shanghai free-trade zone is still quite controversial among policymakers," Lu wrote.

Free-trade zone companies and financial institutions will be allowed to invest in Shanghai securities and futures markets, while qualified overseas individuals in the zone may open accounts to trade local securities, Dai said. Overseas parents of companies registered in the zone will be able to issue yuan- denominated bonds in China.

The government also removed minimum registered capital requirements for some companies in the zone, the State Administration for Industry & Commerce said in a statement.

Companies with the word Shanghai in their names have led an 11 percent advance in the Shanghai Composite Index since June 27 on speculation they will benefit. At the same time, there are signs of wariness: Shanghai International Port (Group) Co. and Shanghai Material Trading Co. tumbled for a second day Friday after more than doubling this quarter.

It will take "more concrete measures and announcements coming from the government, underscoring or reinforcing the function" of the zone for Chinese stocks to gain, Chi Lo, a Hong Kong-based senior strategist at BNP Paribas Partners, which managed the equivalent of $622 billion of assets globally, said in a phone interview today.

Foreign investments in 18 sectors including media organizations, internet bars, as well as the construction of golf courses, villas and theme parks will be restricted or banned in the Shanghai zone, according to a list published on the website of the city government.

Stocks that have advanced the most so far because of the Shanghai zone may come under pressure as the plans announced lack details, Chenjie Liu, Goldman Sachs Gao Hua Securities Co.'s Beijing-based analyst wrote in a note Monday.

"Some investors may be disappointed by the lack of bolder targets or concrete details so far in key areas like financial innovation and tax," Liu wrote.

DBS Bank Ltd. and Bank of Communications Co. also said they received regulatory approval to set up in the zone. Eight domestic banks joined the two foreign lenders with licenses to operate, and Bank of Communications has been approved to set up a financial leasing unit, Liao Min, Shanghai head of the China Banking Regulatory Commission, said at the briefing.

An additional 25 companies, including units of Porsche AG, SAIC Motor Corp. and a trading unit of BNP Paribas SA were also granted licenses, the Oriental Morning Post said on its microblog Sunday.

China's lending in the last five years has reached a magnitude that Goldman Sachs Group Inc. said tipped Asian nations into crisis in the late 1990s. China's economy grew 7.5 percent from a year earlier in the April-June period, extending the longest streak of sub-8 percent expansion in at least two decades.

The free-trade zone "is just a small part of what's going on in China," Fraser Howie, a director at Newedge Singapore and co-author of "Red Capitalism: The Fragile Financial Foundation of China's Extraordinary Rise." "It's not going to solve issues related to the growing debt in the economy, it's not going to solve issues of corruption or environment."

The establishment of the zone echoes moves by paramount leader Deng Xiaoping in the late 1970s, when he set in motion the Shenzhen Special Economic Zone. That allowed foreign investors to set up factories that employed workers to make shoes, toys and electronics for export. Policies tested there were later spread nationwide, sparking a more than 97-fold expansion of China's economy.

"The setting up of special economic zones in the 1980s marked the liberalization of trade, and this Shanghai free trade zone marks service-sector liberalization and financial market integration with the global market," said Ren Xianfang, Beijing-based analyst at IHS Inc. "It remains to be seen whether it will spur China's financial reform."

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